Thursday, September 29 2022

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As we detailed in our recent article How We’re Beating the Market in 2021 and Aiming to Beat the Market Again in 2022, we lead equity indices like the S&P 500 (SPY) and Nasdaq (QQQ) by more than 30%. in 2021 through following disciplined discipline. value and income approach to investing alongside tactical recycling of capital.

As we approach 2022, we have found several other attractive opportunities that position us for further outperformance as interest rates rise. We discuss 2 of our top picks for January that got off to a good start and have yet to race.

Top Pick #1: Credicorp (BAP)

With Peru’s geopolitical, COVID-19 and economic outlook stabilizing, profitability recovering and balance sheet strength, BAP is on track for further dividend growth in 2022, saying on its earnings call of the third trimester:

The answer is an increase in the payment of dividends. We don’t need additional capital. We have the levels of capital that we deem appropriate. And – so that we have a higher return on equity which obviously exceeds the growth in risk-weighted assets – we will distribute more dividends.

That’s exactly what we like to hear, as nothing signals increased confidence in the economic and macro environment quite like increased dividend payouts.

Another highlight of the third quarter was that the Peruvian economy continued to experience a strong post-COVID recovery, with the economy recording 11.2% year-over-year growth in the third quarter. , to the point of exceeding even the pre-COVID levels of the third quarter of 2019 by 1.5%. Even more encouraging, the construction sector – a key leading economic indicator in Peru – grew 26.9% year-over-year and 21.3% from the third quarter of 2019.

The percentage of the population aged 18 and over who had received the COVID-19 vaccine was up to 81% and the daily excess mortality rate had fallen from 926 last summer to just 44 in November.

Geopolitically, the situation in Peru seems to have stabilized rather well. As management said on the earnings call:

Over the past two months, the market has been – understandably – very concerned about the political scenario. What we have seen in the last 100 days is probably a good indicator of the next two years, namely decent macroeconomic policies, continued infighting and noise, and limited ability to execute government policies. So, I reiterate the recommendation given to us by one of our long-term institutional investors that he started to move away from politics and focus on fundamentals.

Thanks to these positive indicators, interest rates and exchange rates have stabilized. Meanwhile, the overall BAP business continues to perform well and generate solid profitability, with a year-to-date ROE of 13.4% and expected to be at teen level going forward, which will be in line with historical levels (it was 17% in 2019).

The balance sheet also remains strong, supporting BAP’s investment grade credit rating.

As we can see in the chart below, when returns on equity are at normal high levels, BAP has commanded a price to book value of 2.0 to 2.8. However, today it finds itself at a key inflection point, as ROE has returned to the teen lows and management has just declared that

we are confident that Credicorp’s sustainable return on equity will be around 17%.

Meanwhile, the price-to-book ratio when we placed it on our top picks list on Nov. 26 was just 1.57x.

Since then, the stock has taken off like a rocket and easily crushed the market over this period:

Price Credicorp vs. SPY
Data by YCharts

Nonetheless, we believe it remains an attractive value as the price-to-book ratio remains low compared to its recent historical multiples at high ROE for teenagers:

Credicorp price vs. book value and return on equity
Data by YCharts

As a result, we believe that BAP’s risk-adjusted return outlook is still very attractive and expect the company to experience significant multiple expansion over the coming quarters as ROE continues to recover towards its level. historical. Moreover, as interest rates rise, BAP – given the concentration of its insurance and banking businesses – is poised to see its results rise at a time when many other businesses will suffer.

Top Pick #2: Virtu Financial (VIRT)

Another one of our top picks that has got off to a good start since being added to our top picks list is VIRT:

Virtu Financial vs. SPY
Data by YCharts

Although VIRT does not offer the highest dividend yield nor the biggest discount to our Buy Under Price in our portfolio at the moment, it is still quite heavily undervalued (~20% discount to at our Buy Under Price) and is positioned opportunistically at the moment. Given the elevated position of broader market indices, the massive (downward) volatility of disruptive technologies (ARKK), and the general geopolitical and macroeconomic uncertainty currently prevailing, there is a very real possibility that the overall market volatility could increase at any time. . This, in turn, could lead to a surge in the VIRT as the rest of the market tumbles due to inflation and interest rate concerns.

While we’re not looking to time the market or make big economic bets, given that VIRT is fairly cheap even based on normalized market conditions and is aggressively buying up stock, we believe it is a a very attractive risk-adjusted bet at the moment.

In fact, the company Q3 results as well as our recent conversations with the company indicate that it is experiencing substantial growth on an organic basis through both its growth initiatives and its aggressive buyout program.

While volatility overall was down year-over-year and roughly flat sequentially in the third quarter – leading to reduced cash flow and earnings – VIRT continued to make progress on a fundamental basis, market making results increased by 5% against an 8% decline in the TCV of US equities. Additionally, fulfillment services were down only 5% compared to declines of 8% in the US, 21% in Canada and 6% in Europe.

Despite reduced volumes, VIRT remained extremely profitable with a 59.5% adj. EBITDA margin and average long-term return on invested capital were 75%. The company has also been busy buying back shares by hand, repurchasing 13.4 million shares in the four-month period ending 10/31/21, representing a whopping 7% of shares outstanding. at an average price of $26.95, which we think is a very attractive value given that it sits within our Strong Buy range and well below the current stock price.

The balance sheet remained strong with a debt of 1.2x to LTM Adj. EBITDA ratio. Organic growth initiatives continued to advance in building options markets, crypto trading, capital markets, and block ETFs.

The company’s adjusted earnings per share of $0.70 easily covered the quarterly dividend of $0.24 by almost 3x while the counted stock continued to fall thanks to aggressive buybacks.

Perhaps the biggest news from the publication was management’s additional $750 million buyout authorization over the next two years, bringing the total current buyout authorization to $859 million. This equates to around 16% of the current market cap, implying an incredibly robust return on capital, especially considering the strong dividend yield.

We were pleased that VIRT is following up on its past statements that it would commit to repurchase a substantial amount of shares. As we continue to wait for appreciation towards fair value, we will be happy to see the nice dividend each quarter and see the number of shares drop as management continues to repurchase a significant number of shares.

The main headwinds in the stock price are the ever-lower volatility in the public markets (which can change at any time) and the debate over whether or not to ban order flow. For those interested in the latter, we recommend viewing slides 10-12 here. Ultimately, VIRT is arguably the most compelling risk-adjusted anti-fragile investment available today from a long-term perspective.

Key takeaway for investors

While not flashy or big names, little-known and little-followed names like BAP and VIRT can be critical building blocks for a retail investor’s portfolio that allow them to generate outsized risk-adjusted returns. in a market that is otherwise very frothy and suddenly volatile. While chasing hot investments and/or big names like Tesla (TSLA), Amazon (AMZN) and Bitcoin (BTC-USD) have served investors very well in the past, there is no guarantee that these investments will continue to generate from alpha in the future. In fact, given how quickly their price has risen, they are riskier than ever because much – if not all – of their future growth is already priced in. facing stronger than ever headwinds.

By choosing the path less traveled and investing in little-known and deeply undervalued income stocks that offer diversification benefits through their international focus and/or structure to benefit from volatility, investors are giving themselves a very real chance to outperform in 2022 and beyond.


Jessica Devin loved the Brewster Bookstore as a child. Now she owns it.


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